Life Kit - 7 Tips To Help You Get Out Of Debt

Episode Date: September 6, 2021

It's easy to get into debt, but harder to get out of it — especially if you don't have a plan. This episode offers strategies to help you pay off debt.Learn more about sponsor message choices: podcastchoices.com/adchoicesNPR Privacy Policy

We are in a mythological landscape. It's a dreary swamp in what is now Germany, and a man named Baron Munchausen, he's riding his horse, his mighty steed. Munchausen is one of my favorites. That's Ayelet Fischbach. She's a psychologist who studies human motivation. And she told me this story about the Baron

because she finds it instructive about how we can do really difficult things in life. So the Baron, he gets himself into this bad situation. He rides his horse into this swamp and he starts sinking into the mud. The swamp is taking him like he's going to die. This guy indeed got stuck in a swamp. And he basically takes his hair with both hands and pulling himself by his hair outside of the swamp. And he's strong enough so that not only can pull himself, he can also pull the horse that

he's holding between his legs. So that if you can imagine the picture that that looks quite fantastic. Now, I have to admit, when Ayelet told me this story, I could not imagine this picture. I mean, the guy with the horse and his legs and his hair. How do you pull yourself out of a swamp by your hair? I mean, is his hair really long and he lassos a tree? It just doesn't seem to make sense. I totally didn't get it. And no, clearly physically impossible.

But Ayelet says what this fable is trying to tell you is something bigger. So she and I were first talking about digging out, not from a swamp, but from a big pile of debt, and how people find the motivation to do that, to really cut back on their spending dramatically and do all the things you have to do, make really big life changes. You also, in the process, learn that you can pretty much apply yourself and do things that seem impossible. And you can commit

to something that takes a couple of years and you can achieve it. Yeah, I think I finally get the Baron Munchausen thing with the hair. I mean, the thing is, the whole point is

it's impossible to pull yourself out of a swamp by your hair. But if you are motivated and you believe in yourself, the idea is you can do the impossible or the thing that you thought was impossible. Exactly. This is your NPR Life Kit for getting out of debt.

I'm Chris Arnold. I cover personal finance and consumer protection. And in this episode, we're looking at a range of the most powerful tools and approaches, stuff that's been proven by research to work to help you pull yourself out of the swamp to get out of debt and get your feet back up on solid ground. Just like Baron Munchausen. We're going to learn how right after this. Debt is kind of a strange thing. When you're in debt already, Thank you. And she says our brains play all kinds of tricks on us when it comes to money and being in debt.

She says here's one reason that taking on more debt seems like a good idea at the time. You actually consider the extra dollar that you get in assets from taking on the extra dollar of debt to be more important than the dollar of debt. So in that case, actually taking on more debt can even make you feel wealthier than you otherwise would. So we feel better. We feel wealthier, but we're actually more screwed. We're sinking deeper into the swamp. That's exactly right. That's exactly right.

And there are a bunch of other ways, too, that our brains lead us astray. Abby says we're too optimistic about being able to catch up. We underestimate what our expenses are going to be even just like next month. So she says this whole debt thing, it can be kind of devious and easy to fall victim to. I hate debt. I hate it so much that if debt was a person, I would slap it. That's Michelle Singletary. She's with The Washington Post. She's a columnist and author who's written books about getting out of debt.

And she works one-on-one with lots of people to help them do this too. And Michelle says because debt can be such a tricky adversary, you need a good plan to defeat it. And that's our first big takeaway here. Call it tip number one. You absolutely need a plan. It's like anything else that you decide to do. Let's talk about driving.

If you're going to a place you've never been before, now you've got GPS, you've got Google Maps, and so you plot out how you're gonna get there. It's the same thing with your debt. If you don't have a plan, you're most likely gonna fail. One reason a plan is so important is because it gives us a default answer to all sorts of spending decisions that pop up every day.

And in the moment, it's really tempting to just spend the money if you don't have a plan in advance. It's like, ah, it's the end of the day. I'm hungry. Let's buy Chinese food. But when you decide to come up with a plan to get out of debt and you've got that plan, that makes it easier to say no to something. OK, so we can't just wing this. We need a good plan. But what plan? Abby says the first decision you have to make here has to do with snowballs and avalanches. That sounds a little random, but those are the nicknames for two different approaches to attacking your debt.

So with the avalanche method, we'll look at that first. Basically, you list all your debts with the highest interest rate debt at the top of the list. If you have two credit cards and one has a 13% interest rate, one has a 17% interest rate. Then you put all the money you can towards paying off the 17% rate credit card first because it's charging you the highest interest rate. I mean, that makes sense, right? And you just pay the minimums on everything else. And then when you pay off that card, then you move down to the 13 percent card and so on and so forth. So it's like an avalanche falling down that mountain of debts to the next highest rate. And down you go. You'll be much better off from

an economic perspective, paying off that highest interest rate debt first, because essentially you'll have less total debt to have to pay off over time. That seems pretty straight ahead and logical, right? But there's a wild card factor here that has to do with motivation. And Michelle explains that that's where the snowball method comes in. And that plan says, well, you know what? Screw the math as far as paying the highest interest rate first and all that stuff. Instead of thinking about things in terms of percentages and dollars and cents, we're going to try a more emotional approach. We got to look at behavior. And the snowball method is all about behavior and feeling motivated by small wins.

So you make a list of all your debts, not by the interest rate, but by the balance, how much you owe. And starting with the smallest debt at the top of the list. So if that's a credit card with only 200 bucks on it, you attack that. You go at it and pay it off, and you pay it off really quickly, and then boom, you get a win. And what the studies show is that when people have immediate progress, that they get rid of some debt, that energizes them, that encourages them. We heard from a bunch of listeners who did this, and a lot of them say it actually works,

like Jason Moingen from Minnesota. Once we started paying the smallest bills that we had off, we did feel like we made some momentum. And it was just a psychological win. And so we just kept paying off more bills and more bills and throwing it at the next largest bill. And we felt like we were making progress. And you get religion about the whole thing. And pretty soon it's like, go, go, go. Pay off your debts really fast because you're more committed to it. That's exactly right. Abby says, though, if you don't need that motivation,

if it was her, she'd do the avalanche method and pay the higher interest rate debt first because in the end you're paying off less money if you're throwing the same amount at your debts. So the takeaway here, tip number two, do some soul searching and decide if the avalanche or the snowball is the right approach for you. Whichever way you decide to go, it sounds like you're saying the most important thing to do is to pick an approach and really be motivated and go after it. You know, I think if you have a plan and you follow the plan, that that will be much more effective than approaching this at random, for sure. OK, takeaway number three. And I apologize in advance. This is the painful part. But in order to have the money that you're going to need to pay off these debts, you are going to have to start spending less money. The math is pretty simple here. This

just has to be part of your plan. I mean, so there are two levers, right? You can spend less or you can earn more. And I think for a lot of people, the earning more option is not a feasible one. And so I think spending less becomes critical. And I suspect that this is something that most people do realize is important. It's just hard to do. And it's even harder to do if you don't make very much money. We heard from a lot of you who were in that position. So I brought this up with Michelle and I said, you know, look, people say, I just don't have any wiggle room. The system's not fair. I don't make enough money saving and paying down debt. It just feels like it's impossible. Yeah, you know, I get

that. Let me just say this, because a lot of times when financial experts say you still got to do it, you know, people are like, well, you don't know, you don't understand. Let me tell you something. I completely understand. I was abandoned by my parents and went to live with my grandmother. Before my grandmother took us in, I knew hunger. Like, there wasn't food in the refrigerator.

And I don't mean that there wasn't choices in the refrigerator. I mean, there was nothing in the refrigerator. So I understand poverty at a level that some experts don't, right? You know, my grandmother made like $13,000 the most in her life. So she couldn't give me money to help. So even as a young adult, it was all on me starting on my new job. And I was also helping a disabled brother. So I totally get that there's not a whole lot to stretch. I know what it's like. But I also know that you can't overspend and spend what you don't have. So if you're a young adult starting out, that means that you got to make different decisions. Different decisions. All right, we're going to go through a bunch of strategies that will help you make better decisions about money.

And one big thing you can do is, look, you just have to have a budget. There's all kinds of reasons to do that. And don't be intimidated about it. Just sit down and do it. Listen, my grandmother budgeted on the back of an envelope from junk mail. Pretty simple. We've got a whole episode about how to be the master of your budget. And there's all kinds of good stuff there. You really should listen to it

because that's going to teach you what a powerful tool a budget can be. So check that out too. Another way to spend less is to go card less. See what I did there? As in ditch the credit cards. Michelle says don't close the credit card account, though, because that'll hurt your credit score. But the cards themselves. You've got to put the cards away. Cut them up, put them in the freezer, put them in an ice tray. But you've got to take them out of your wallet.

Yeah, so there's research that looks at what's called the pain of paying that does provide support for the idea that people will pay less when they're using cash. There are ways that this can be helpful, but you should also make sure to know what you're spending that cash on. And that gets it another proven way to spend less money. You put that cash in envelopes. It's called the envelope method. So let's say you budgeted 50 bucks for eating out in a month. You take that $50 and you stick it in an envelope and you just write with a Sharpie on the envelope, eating out.

And then when you spent that money, that's it, it's gone. And you do the same thing for clothes and groceries and anything else in your budget. And it might seem a little silly, like, oh, come on, what's with all these envelopes?

But it can actually work. Abby says there's a behavioral thing that goes on where we tend to respond to these limits. The envelope creates a physical partition that people really don't want to break past. So if this is all of the money that you've allocated towards the supermarket, you really don't want to sort of break into the next envelope to use additional money for your supermarket bills. But here's the thing. If we're too busy nickel and diming ourselves, though, getting the store brand pasta, that only goes so far.

So Michelle says don't forget the big stuff. It's important to reassess the things that you spend the most money on, like your rents and your mortgage and living alone. It's nice, but maybe you just can't afford that right now. If you're in a house or an apartment, you've got an extra room, bring in a roommate. So I'm a big believer in shared housing. That is one way to find some of the money to apply to your debt. Or five roommates or live with your folks for a while if that's an option.

So let's say, you know, you're doing all this, the budget, the envelopes. We heard from some of you, though, who wanted to do something more radical. And this is our next takeaway tip. Tip number four, you can try something called a spending fast. We heard from Marie Tweedy in Seattle, and she'd gotten married and she was spending money and put it on a credit card or multiple credit cards. And she'd spent a lot of money on this wedding. And I looked at the number. I knew it was high, but I was shocked by how high it was. It was over $40,000 in credit card debt. This is just credit card debt, $40,000 of credit card debt.

And Marie's kind of laughing here so she doesn't cry, but she says this was pretty painful. I tallied up the interest I was paying a month and it was $400 a month. It was totally overwhelming, that number, $400 a month of my money going towards interest. That would give me hives if I was paying. I hate paying interest. It's terrible. So anyway, Marie read about this thing. It's called a spending fast, where you want to get out of debt really fast. So you just close all the spigots. You shut down all the spending. I cut out all unnecessary spending. So that included any unnecessary clothing that I wanted or thought that I needed, picking up food just because it was convenient

and I didn't feel like cooking. I cut out my morning coffee. I cut out going out with my friends for drinks. Now, we know not getting a cup of coffee, that's not going to like solve your debt problem, right? But as we all saw in the pandemic, it is possible to really cut back on your spending and not go out to eat. No vacations. It was a lot of sacrifice, but I learned a lot about myself, about self-control, and it taught me to be more intentional with deciding how I'm going to spend my money. So in the first couple of months, you know, I wiped out over $5,000 of my debt. Wait, $5,000 off that debt in just a couple of months. I mean, that's pretty impressive. And that amount that she found is not unusual for someone making like a middle income salary to find that much in a couple months.

That is totally doable from my experience. And Michelle says the other bonus here is that once the spending fast is over, you've learned what you can live without. Once you shut everything down, you go, OK, I really do want my cup of coffee. I really do want to go to the hairdresser. But you know what? I can bring in my lunch. That's like nothing to me. I can just make a quick sandwich and I'm good. You know, so you start to only add back the things that matter to you. So that's what Marie did. And when we last talked to her, she paid off about half of that $40,000 in credit card debt in about one year.

Now, there might be a moment when you come into a little extra money. It doesn't happen all the time in life, but it does happen. Maybe it's a bonus from work, your tax refund check, $500,000, and it can be really tempting to just spend that on something fun. That's like our natural human instinct. And actually giving yourself really tempting to just spend that on something fun. That's like our natural human instinct. And actually giving yourself little treats to reward yourself while you're paying off your debt and doing something hard like that. There's research that shows that that can be really motivating. That's a good idea. But if you get a big pile of money, and this is takeaway number five, Abby says, don't blow it.

Use that money to pay off your debt. There's some really interesting research by Jen Ling Zhang, who looks at the case of bonuses. And what she finds is that people tend to be more likely to take out auto loans and purchase cars right after they receive a bonus. What she finds specifically is the fact that people who are buying cars right after receiving a bonus are more likely to default. So what Abby's saying is not only are we likely to blow the extra money on a car, but we buy cars that we can't even afford with the extra money. So Abby says if you get a windfall, your tax return money, whatever it is, just resist that urge and use the money to make some really good progress towards paying down your debt. One of the most painful parts of being

stuck in a pile of credit card debt is paying those punishing interest rates, right? I mean, like 20% interest, it's just painful. It's like you're bleeding money. It could be thousands of dollars when you have a lot of debt. It's just the worst. So there's this thing called debt consolidation. And here's how it works. Let's say you got a bunch of credit cards, you owe 30 grand on them, and the interest rates are all really high. You will obviously save money on interest if you can pay off at least a big chunk of that debt with a lower interest rate loan. And there are a lot of ways to do this. The balance transfer offer from another credit card or a personal loan, probably not as good an idea as a home equity line

of credit. But this is tip number six. Michelle says be careful when it comes to debt consolidation. I don't often recommend debt consolidation for a couple of reasons. Because often what happens is people consolidate the debt. Now they've cleared off credit cards. And then guess what happens? And they think, oh, look, see, we dealt with this. Problem solved. Right. And they go back and start to charge up the cards. We have had people use their home equity to pull money out of their homes, the equity they have in their homes, pay off a bunch of debt. Now those cards are clear and they see clear credit cards. They start charging them back up. So now they've got their back in credit card debt

and they've put more debt onto their homes. And if you can't pay back a ballooning home equity loan, you might be putting your house at risk. Also, Michelle is in the camp of personal finance experts who just feel like you need to pay off that debt as quickly as possible and just use those punishingly high interest rates as motivation to do that. And doing anything else, she says, is just like shuffling deck chairs around on the Titanic. I want you to suffer while you're getting out of debt because it is through that suffering that you learn your lesson. That is another reminder that you don't need to come back here again. Okay.

I actually have something to admit here. I'm not so into suffering. And sometimes I'll use those balance transfer offers from credit card companies, you know, 0% for 18 months. And if I spent a few grand on a family vacation, I'll just use that to pay it off over time. And I always do pay it off. And I figure it's a super cheap on a family vacation. I'll just use that to pay it off over time. And I always do pay it off. And I figure it's a super cheap way to borrow money. So I asked Michelle what she thought about that.

So can I really be truthful? Yeah. It's just me and you, right? Well, sure. Let's say it is. I would say that if you're putting a vacation on a card that you then have to pay off over time, that you can't afford that vacation. Yeah, that is one perspective. It's the right perspective.

Because you did ask me. I did. I did. Part of Michelle's concern here is that these balance transfer checks have a 0% interest rate for a limited time. And after a year or whatever the deal is, the interest rate is going to go way up. And the industry makes money because people screw that up and get stuck with the high interest rate. What I do is I set up automatic payments for my checking account. So I'm sure to pay it off before that happens. And Abby, on the other hand, has more of my thinking on this.

So she says, look, if you have credit card debt and you can lower the interest rate with no negative consequences, she says that is going to help you. Because essentially, you'll have less total debt to have to pay off over time. And so wouldn't you rather have to pay a lower bill than a higher bill? You definitely want to do your homework, though, when you're thinking about this debt consolidation thing and paying off one kind of debt with another loan. For example, there are a lot of times when it's not a good idea to consolidate student loan debt and medical debt, too. You usually do not want to pay off with some other kind of loan. We have a whole episode on medical debt, so definitely check that out if you're dealing with medical bills. There's tips

for how to get hospitals to dramatically lower your bill, for example. So look, if this is sounding complicated, it's because some of it is. And when you're getting out of debt, there is a lot that you can do by yourself. But there are also times when things do get complicated. And if you're feeling overwhelmed or you're not sure the best way to go, this is our last tip, tip number seven. Sometimes getting some one-on-one help is a good call. So I'm a big believer in seeking out help and teaming up with people who can help you because this stuff is really hard. Michelle runs a debt counseling program at her local church. And she says if you're looking for a good counselor who you can trust, and that's important

because there's a lot of get out of debt kind of scammy operations out there. She says it's good to go to a nonprofit. That's key. Nonprofit. One good resource for that is the National Foundation for Credit Counseling. They have a website, NFCC.org. And you can type in your zip code there and they'll tell you where nonprofit counselors are near you. And finally, as you head down this road of getting out of debt, this exciting but hard road, whether you do the snowball or the avalanche, or you want to go hog wild and try

the spending fest, Michelle says, before you do any of that, do this too. The most important thing you need to do when you have a lot of debt is to forgive yourself. Because you need to take that step first so that you lay the groundwork for success. If during the whole process you're beating yourself up or if I had only known and I shouldn't have done this, you're just not going to gain a lot of ground because you're going to start off with a very negative approach to paying off your debt. Just say, you know what? Life happens. I'm in this situation.

And so now I've decided in my life that I'm going to take the steps to get out of debt. And that's where you should start first. You know, if Baron Munchausen had been all super negative and down to the dumps, he never could have pulled himself and his horse out of that swamp, right? You could do this. Okay, so we covered a lot of ground here. And to help us remember the most important stuff, here come the big takeaways.

Number one, you absolutely need a plan. If you're in debt, you need a debt plan. You need a plan to get out of debt. Otherwise, it's like taking a trip and you have no idea where you're going. Tip number two, do some soul searching and decide if the avalanche or the snowball is the right approach for you. Okay, takeaway number three. I'm sorry, this is the painful part, but you are going to have to spend less money if you want to pay off your debt. But remember, there's lots of good ways to do that, right? Using the cash, the envelopes, get a roommate. A budget is not a bad word.

And a lot of people think budget is about denying yourself. No, no, a budget tells you what you can do. And our next takeaway, tip number four, you can try something called a spending fast. Pick a brief period of a month or two to dramatically reduce your spending. And this will hopefully help you form better habits as well. And you might slam through two, three, four, five thousand dollars for the debt. Just pay it off really fast. All right.

Takeaway number five. Abby says don't blow extra money when you get that tax return or that month that comes along once a year or whatever where you get an extra paycheck. Use that to pay off your debt. Think about that as an opportunity for forced savings or for having money that's built up that you can actually use to repay debt and put you in a better financial position. And our next tip, tip number six, Michelle says be careful when it comes to debt consolidation. It works for some, but most of them end up right back where they are because they haven't gone through the process of making sure they understand why they're in debt and that they shouldn't go back here again. And finally, our last tip, tip number seven, sometimes when things get really complicated hard, you don't want to make the wrong decision. Getting some one-on-one help is a really good call. Just make sure it's with a nonprofit agency.

So it helps to have someone or have a program that you can go to where it can encourage you to stay on that path. For more Life Kit, check out our other episodes. I hosted one on how to pay off medical debt and another on how to buy a car without being taken for a ride. You can find those at NPR.org slash LifeKit. And if you love LifeKit and-9823 or email us at lifekit at npr.org. This episode was produced by Sylvie Douglas. Megan Cain is the managing producer. Beth Donovan is the senior editor. Our digital editor is Beck Harlan and our editorial assistant is Claire Schneider. I'm Chris Arnold. Thanks for listening.